Rising interest rates threaten a global economy that is already ``more vulnerable than it has been’’ in about 30 years, said Bill Gross, who runs the world’s biggest bond fund at Pacific Investment Management Co.

A ``debt-laden’’ economy means that short-term interest rates kept too low will create ``asset bubbles,’’ while interest rates that are raised too high will ``pop’’ existing bubbles and cause a recession, Gross wrote in a monthly commentary published on Newport Beach, California-based Pimco’s Web site.

``The Goldilocks yield is the only one that speaks to relative stability, and the margin for error is much narrower than in prior decades,’’ Gross wrote. Pimco has almost $400 billion in assets under management and is owned by Allianz AG, Europe’s biggest insurer.

The U.S. Federal Reserve last week raised its key interest rate for the first time since 2000, increasing the target for overnight loans between banks to 1.25 percent from a four-decade low of 1 percent. The European Central Bank has kept its key rate at 2 percent, the lowest in more than half a century, since June 2003.

Pimco has maintained its investments in non-U.S. debt, including bonds of the U.K. and Australia, since central banks there have already been raising rates. Gross didn’t immediately respond to a message seeking comment.

Gross said in an interview last week there is ``more value’’ in government debt with shorter maturities, and that the rise in the 10-year note’s yield in the past three months to as high as 4.90 percent made Treasuries ``the market where our money is.’’

Since he made those comments, the yield on the benchmark 10- year note has fallen to 4.48 percent from 4.65 percent. Yields move inversely to bond prices.

Bubbles and Recession
Gross is Pimco’s chief investment officer and manager of the company’s $73.4 billion Total Return Fund. The fund is up 1.1 percent this year, putting it in the top 14 percent of portfolios with a similar objective, according to data compiled by Bloomberg. In the past five years, it has risen an annual 7.9 percent, ranking in the top 4 percent in its category.

Forty-seven percent of his total debt holdings mature in five to eight years as of May, compared with 35 percent of his holdings maturing in three to five years and 8 percent due in one to three years, according to Pimco’s Web site.

Gross had been recommending Treasury Inflation-Protected Securities, or TIPS, for much of the year. Inflation-linked debt pays interest at lower rates than regular Treasuries on a principal amount that grows in line with increases in consumer prices. Regular Treasuries pay fixed annual interest and a set amount of principal at maturity.

``Real short-term rates kept too low will create asset bubbles and accelerating inflation,’’ Gross said. ``Real yields raised too high will pop existing asset bubbles and lead to economic recession.’’

Debt and GDP
His commentary accompanied a chart showing total credit- market debt exceeding U.S. gross domestic product by three times.

``It’s sobering to contemplate that not only has our current cyclical prosperity been due to the `productivity’ of lower interest rates in a finance-based, debt-laden economy, but that the reversal of yields must be more than delicately manipulated in order to prevent reciprocal damage and global economic instability,’’ he wrote.

While Gross has criticized Fed Chairman Alan Greenspan and fellow central bankers for not boosting target rates sooner, he pointed out that policy makers made the pledge to move at gradual pace to return to a ``more neutral’’ policy, Gross said.

Also, Greenspan ``as well as other global central bank chieftains must acknowledge that `neutral’ in a levered global economy is a yield shrouded by fog and fraught with uncertainty,’’ he said.

(Bloomberg)